China practically has a monopoly over the global supply of rare-earths, the 17 minerals that are used in manufacturing high tech electronic equipment and devices such as military drones and electric-vehicle motors. Some of the leading Chinese rare earth mining companies, such as Inner Mongolia Baotou Steel Rare-Earth and subsidiaries of Aluminum Corp. of China (ACH) and China Minmetals Corp. have temporarily halted production for about a month due to a sharp decline in prices. Baotou Steel saw a 90% drop in quarterly profits, for example. In the past year, the price of Lanthanum oxide, Cerium oxide and Neodymium oxide, some of the commonly used rare earths, have fallen by 56%, 61% and 63% respectively.
Demand for the major products they are used in, such as clean energy applications - wind turbine electromagnets use Neodymium for example -- and consumer electronic devices, have either slumped or face a negative outlook due to the global economic slowdown. The Market Vectors Rare Earth/Strategic Metals ETF (REMX), which tracks some of the leading companies engaged in mining rare-earth minerals, is down 18% since January 2012.
Americans tend to believe that some of the problems associated with rare-earth price declines are because of China, which has 23% of the global rare earths reserves and controls approximately 95% of the total supply. Since the country controls the supply of these valuable minerals, their decision to place export quotas to the U.S., Japan, E.U. and Canada caused them to have to field complaints with the WTO. Although there are more than 250 listed firms in the U.S. engaged in rare-earth mining only Molycorp (MCP), the biggest U.S. based rare-earth producer which opposed the U.S. government's decision to go to the WTO against China, is actually in production.
But Molycorp, despite seeing a 49% increase in revenues to $205.6 million that came following the acquisition of Neo Materials, still a posted a quarterly loss of $15.5 million, down from a profit of $45 million in the year-ago quarter. Although the loss was primarily attributed to the industry-wide problem of falling prices coupled with ever increasing production costs, as well that it is facing an SEC probe into the accuracy of its financial data.
However, despite the gloom, the applications of rare-earth are vast from smartphones and tablets to night vision goggles and they have virtually no substitute. Therefore rare-earth demand will fluctuate but should continue to rise in the long term. The immediate impact of the drop in Chinese production activity, according to Metal Pages, was the increase in the demand for praseodymium and neodymium. The question, long term, is how the supply side of the market will respond as other countries like U.S., Japan, Australia, India and Malaysia step up their efforts to increase their rare-earth supplies.
The term rare-earth is a bit of a misnomer. The metals themselves are not rare, but rather finely dispersed. What is rare about them is finding a concentrated, exploitable deposit.
Molycorp has announced it will increase output from its primary mine in California from 19.500MT to 40,000MT in two years as it aims to invest $781 million to upgrade its Mountain Pass facilities. The Australia based Lynas Corp (LYSCF.PK), which comes under the top 5 holdings of REMX, has finally received the approval from Malaysian authorities to start operations on its $818 million facility located in Pahang province that has been beset by environmental concerns.
Meanwhile, the U.S. Department of Defense is working together with the Japanese Toyota Motors (TM) and Canadian firms UCore Rare Materials (UURAF.PK) and Matamec Explorations (MTCEF.PK) to explore and develop rare-earths mines within North America. With the rise in production levels of non-Chinese firms, particularly those located in North America, the U.S. military, which buys almost all of its rare earths from China, will shift to Mountain Pass. The country's rare earths requirements are up to 18,000MT/year and the Mountain Pass facility will be more than enough to meet all of American rare-earths needs in two years.
Furthermore, Japan, the world's biggest buyer of rare-earths and China's primary customer, has also been looking elsewhere following the Chinese export quotas and the recent islands dispute. On 9th November, Japan agreed to start importing rare-earths from India who can fulfill 10% of Japanese needs by supplying 5,000MT each year. They recently found a deposit off the coast of a small island near Okinawa that could contain as much as 220 years' worth - at present consumption rates - of the heavy rare earths which are the more highly prized for many applications.
* Inner Mongolia Baotou Steel Rare-Earth (SHA:600111)
Despite the efforts of non-Chinese firms, the dominance of China is not going to change, even in the long run. While most countries have the capability to extract the rare-earth metal ore, it's the separation process of the rare earth metals concentrated ore in which the success or failure lies. Until the end of last year, China was believed to possess almost 99% of the world's separation capacity. Rare-earths exploration and development is an incredibly complex process which the Chinese have mastered over decades. The country has been driving towards these minerals since 1950s and its leaders consider it an important industry that gives China a competitive advantage over others. The famed Chinese politician and reformist Deng Xiaoping once said, "The Middle East has oil. China has rare earths." Japan announced that they would be building a facility in Vietnam to further improve extraction techniques right after their massive deposit was found.
Although several claims have been made in the past of finding a perfect substitute for rare-earths nothing substantial has so far come forward. The Japanese vehicle manufacturers have been trying desperately to look for a dysprosium substitute, used in hybrid cars, but so far, they haven't been successful. In a nutshell, while the world is desperately looking for a more reliable rare earths supplier, it currently has little option but to look to China. In the coming decades, China will witness its share of global supply falling but the fact remains that the country still retains its advantages in the medium term and in conjunction with rising need for their use it will continue to exert pressure on the market.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.